Professional Documents
Culture Documents
PowerPoint Authors:
Susan Coomer Galbreath, Ph.D., CPA
Charles W. Caldwell, D.B.A., CMA
Jon A. Booker, Ph.D., CPA, CIA
Cynthia J. Rooney, Ph.D., CPA
McGraw-Hill/Irwin Copyright © 2011 by the McGraw-Hill Companies, Inc. All rights reserved.
Cost Allocation – An Overview
The
The matching
matching principle
principle requires
requires that
that part
part of
of the
the
acquisition
acquisition cost
cost of
of property,
property, plant,
plant, and
and equipment
equipment and and
intangible
intangible assets
assets bebe expensed
expensed inin periods
periods when
when thethe
future
future revenues
revenues are
are earned.
earned.
Acquisition
Acquisition Expense
Expense
Cost
Cost
11 - 2
(Balance Sheet) (Income Statement)
Cost Allocation – An Overview
Asset
Account Credited
Category Debit
Property, Plant, & Accumulated
Depreciation
Equipment Depreciation
Natural Resource
Natural Resource Depletion
Asset
Intangible Amortization Intangible Asset
Depreciation
on the
Balance
Sheet
11 - 3
Measuring Cost Allocation
The
The estimated
estimated expected
expected The
The systematic
systematic approach
approach
use
use from
from an
an asset.
asset. used
used for
for allocation.
allocation.
Total
Total amount
amount of
of cost
cost to
to be
be allocated.
allocated.
Cost
Cost -- Residual
Residual Value
Value (at
(at end
end of
of useful
useful life)
life)
11 - 4
Depreciation
Group
Group and
and
Time-based
Time-based Methods
Methods composite
composite
Straight-line
Straight-line (SL)
(SL) methods
methods
Accelerated
Accelerated Methods
Methods
Sum-of-the-years’
Sum-of-the-years’ digits
digits (SYD)
(SYD) Tax
Tax
Declining
Declining Balance
Balance (DB)
(DB) depreciation
depreciation
Activity-based
Activity-based methods
methods
Units-of-production
Units-of-production method
method (UOP).
(UOP).
11 - 5
Straight-Line
The
The most
most widely
widely Results
Results in
in the
the same
same
used
used and
and most
most easily
easily amount
amount of
of depreciation
depreciation in in
understood
understood method.
method. each
each year
year of
of the
the asset’s
asset’s
service
service life.
life.
On
On January
January 1,
1, wewe purchase
purchase equipment
equipment forfor $50,000
$50,000 cash.
cash.
The
The equipment
equipment has has an
an estimated
estimated service
service life
life of
of 55 years
years
and
and estimated
estimated residual
residual value
value of
of $5,000.
$5,000.
What
What is
is the
the annual
annual straight-line
straight-line depreciation?
depreciation?
11 - 6
Straight-Line
Depreciation
Life in Years
Accumulated Accumulated Undepreciated
Depreciation Depreciation Depreciation Balance
Year (debit) (credit) Balance (book value)
$ 50,000
1 $ 9,000 $ 9,000 $ 9,000 41,000
2 9,000 9,000 18,000 32,000
3 9,000 9,000 27,000 23,000
4 9,000 9,000 36,000 14,000
5 9,000 9,000 45,000 5,000
$ 45,000 $ 45,000
Residual Value
BV = Residual Value at the
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end of the asset’s useful life.
Accelerated Methods
Accelerated methods result in more depreciation
in the early years of an asset’s useful life and less
depreciation in later years of an asset’s useful life.
11 - 8
Sum-of-the-Years’ Digits (SYD)
11 - 9
Sum-of-the-Years’ Digits (SYD)
11 - 10
Sum-of-the-Years’ Digits (SYD)
Accumulated Undepreciated
Depreciation Depreciation Balance
Fraction (debit) Balance (book value)
$ 50,000
5/15 $ 15,000 $ 15,000 35,000
4/15 12,000 27,000 23,000
3/15 9,000 36,000 14,000
2/15 6,000 42,000 8,000
1/15 3,000 45,000 5,000
$ 45,000
Residual Value
Depreciation
11 - 11 Life in Years
Declining-Balance (DB) Methods
DB depreciation Stop depreciating
• Based on the straight-line rate when:
multiplied by an acceleration BV = Residual
factor. Value
• Computations initially ignore
residual value.
Note that the Book Value will get lower each year.
11 - 12
Declining-Balance (DB) Methods
On January 1, we purchase equipment for $50,000
cash. The equipment has a service life of 5 years
and an estimated residual value of $5,000.
What is depreciation for the first two years using
double-declining-balance?
11 - 13
Declining-Balance (DB) Methods
Accumulated Undepreciated
Depreciation Depreciation Balance
Year (debit) Balance (book value)
$ 50,000
1 $ 20,000 $ 20,000 30,000
2 12,000 32,000 18,000
3 7,200 39,200 10,800
4 4,320 43,520 6,480
5 1,480 45,000 5,000
$ 45,000
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Life in Years
Units-of-Production
11 - 15
Units-of-Production
On January 1, we purchased equipment for $50,000 cash.
The equipment is expected to produce 100,000 units during
its life and has an estimated residual value of $5,000.
If 22,000 units were produced this year, what is the amount
of depreciation?
11 - 16
Use of Various Depreciation Methods
11 - 17
U.S. GAAP vs. IFRS
Component Depreciation, Depreciable Base,
and Residual Value
11 - 18
Group and Composite Methods
•• Assets
Assets areare grouped
grouped byby common
common characteristics.
characteristics.
•• An
An average
average depreciation
depreciation rate
rate is
is used.
used.
•• Annual
Annual depreciation
depreciation is
is the
the average
average rate
rate ×× the
the total
total
group
group acquisition
acquisition cost.
cost.
•• Accumulated
Accumulated depreciation
depreciation records
records are
are not
not maintained
maintained
for
for individual
individual assets.
assets.
IfIf assets
assets in
in the
the group
group are
are sold,
sold, or
or new
new assets
assets
added,
added, the
the composite
composite raterate remains
remains the the same.
same.
When
When an an asset
asset in
in the
the group
group is is sold
sold oror retired,
retired,
debit
debit accumulated
accumulated depreciation
depreciation for for the
the
difference
difference between
between the the asset’s
asset’s cost
cost and
and the
the
proceeds.
proceeds.
11 - 19
U.S. GAAP vs. IFRS
Valuation of Property, Plant, and Equipment
11 - 20
Depletion of Natural Resources
As natural resources are “used
up,” or depleted, the cost of the The approach is based
natural resources must be on the units-of-
allocated to the units extracted. production method.
11 - 21
Depletion of Natural Resources
ABC Mining acquired a tract of land containing ore
deposits. Total costs of acquisition and development were
$1,100,000. ABC estimated the land contained 40,000
tons of ore, and that the land will be sold for $100,000 after
the coal is mined. What is ABC’s depletion rate?
11 - 23
Amortization of Intangible Assets
The amortization process uses the straight-line
method, but usually assumes residual value = 0.
Subject to assessment
for impairment of
Not amortized.
value and may be
written down.
11 - 26
U.S. GAAP vs. IFRS
Valuation of Intangible Assets
11 - 27
Partial-Period Depreciation
Half-Year
Half-Year Convention
Convention
Take ½
Take ½ of
of aa year
year of
of depreciation
depreciation in
in the
the
year
year of
of acquisition,
acquisition, and
and the
the other
other ½
½ in
in
the
the year
year of
of disposal.
disposal.
11 - 28
Changes in Estimates
ESTIMATED
ESTIMATED ESTIMATED
ESTIMATED
service
service life
life residual
residual value
value
We
We account
account for
for these
these changes
changes prospectively
prospectively,,
exactly
exactly as
as we
we would
would anyany other
other change
change in
in estimate.
estimate.
11 - 32
Error Correction
Errors found in a subsequent
accounting period are corrected by . . .
11 - 33
Test for
impairment
Impairment of Value of value when
Accounting
Accounting treatment
treatment differs.
differs. considered
for sale.
Long-term
Long-term assets
assets Long-term
Long-term assets
assets
to
to be
be held
held and
and used
used held
held for
for sale
sale
Tangible
Tangible and and Intangible
Intangible Goodwill
Goodwill
intangible
intangible with
with
with
with finite
finite indefinite
indefinite Test for impairment of
useful
useful lives
lives useful
useful lives
lives value at least annually.
Measurement
Measurement –– Step
Step 11
11 - 35
Finite-life Assets to be Held and Used
Measurement – Step 2
Impairment Book Fair
loss = value – value
Reported as part
Market value, price of similar assets,
of income from
or PV of future net cash inflows.
continuing operations.
Undiscounted future
Fair Value cash flows
$0 $125 $250
11 - 37
U.S. GAAP vs. IFRS
Impairment of Value: Property, Plant, and
Equipment and Finite-life Intangible Assets
11 - 38
U.S. GAAP vs. IFRS
Impairment of Value: Property, Plant, and
Equipment and Finite-life Intangible Assets
11 - 39
Finite-life Assets to be Held and Used
Because Acme Auto Parts has seen its sales steadily decrease
due to the decline in new car sales, Acme’s management believes
that equipment that originally cost $350 million, with a $200 million
book value may not be recoverable. Management estimates that
future undiscounted cash flows associated with the equipment’s
remaining useful life will be only $140 million, and that the
equipment could be sold now for $120 million. Has Acme suffered
an impairment loss and if so, how should it be recorded?
Step 1
$140 million < $200 million
Impairment loss is indicated.
11 - 40
Finite-life Assets to be Held and Used
Because Acme Auto Parts has seen its sales steadily decrease
due to the decline in new car sales, Acme’s management believes
that equipment that originally cost $350 million, with a $200 million
book value may not be recoverable. Management estimates that
future undiscounted cash flows associated with the equipment’s
remaining useful life will be only $140 million, and that the
equipment could be sold now for $120 million. Has Acme suffered
an impairment loss and if so, how should it be recorded?
Step 2
Impairment loss = $200 million – $120 million = $80 million
Other
Other Indefinite
Indefinite
Goodwill
Goodwill Life
Life Intangibles
Intangibles
Step
Step 11 IfIf BV
BV of
of reporting
reporting
unit
unit >> FV,
FV, impairment
impairment One-step
One-step Process
Process
indicated.
indicated.
IfIf BV
BV of
of asset
asset >>
FV,
FV, recognize
recognize
Step
Step 22 Loss
Loss == BV
BV of
of impairment
impairment loss.
loss.
goodwill
goodwill less
less implied
implied value
value
of
of goodwill.
goodwill.
11 - 42
U.S. GAAP vs. IFRS
Impairment of Value: Indefinite-life Intangible
Assets Other than Goodwill
11 - 43
U.S. GAAP vs. IFRS
Impairment of Value: Indefinite-life Intangible
Assets Other than Goodwill
11 - 44
U.S. GAAP vs. IFRS
Impairment of Value: Goodwill
11 - 45
U.S. GAAP vs. IFRS
Impairment of Value: Goodwill
11 - 46
Impairment of Goodwill
Simmons Company recorded $150 million of goodwill when it
acquired Blake Company. Blake continues to operate as a separate
company and is considered to be a reporting unit. At the end of the
current year Simmons noted the following related to Blake: (1) book
value of net assets, including $150 million of goodwill is $500 million;
(2) fair value of Blake is $400 million; and (3) fair value of Blake’s
identifiable net assets, excluding goodwill is $350 million. Is goodwill
impaired and if so, by what amount?
Step 1
$500 million > $400 million
Impairment loss is indicated.
11 - 47
Impairment of Goodwill
Simmons Company recorded $150 million of goodwill when it
acquired Blake Company. Blake continues to operate as a separate
company and is considered to be a reporting unit. At the end of the
current year Simmons noted the following related to Blake: (1) book
value of net assets, including $150 million of goodwill is $500 million;
(2) fair value of Blake is $400 million; and (3) fair value of Blake’s
identifiable net assets, excluding goodwill is $350 million. Is goodwill
impaired and if so, by what amount?
Step 2
Determination of implied goodwill
Fair value of Blake $ 400,000,000
Fair value of Blake's net assets excluding goodwill 350,000,000
Implied value of goodwill $ 50,000,000
Measure of impairment loss
Book value of goodwill $ 150,000,000
Implied value of goodwill 50,000,000
Impairment loss $ 100,000,000
11 - 48
Expenditures Subsequent
to Acquisition
Type of Definition Usual Accounting Treatment
Expenditure
Repairs and Expenditures to maintain Expense in the period incurred
Maintenance a given level of benefits
Additions The addition of a new major Capitalize and depreciate over the
component to an existing asset remaining useful life of the original
asset, or over the useful life of the
addition, whichever is shorter
11 - 49
U.S. GAAP vs. IFRS
Costs of Defending Intangible Rights
11 - 50
Appendix 11A – Comparison with
MACRS (Tax Depreciation)
Most
Most corporations
corporations use
use the
the Modified
Modified
Accelerated
Accelerated Cost
Cost Recovery
Recovery System
System
(MACRS)
(MACRS) for
for tax
tax purposes.
purposes.
11 - 51
Appendix 11B – Retirement and
Replacement Methods of Depreciation
Used for groups of similar, low-valued
assets with short service lives.
Retirement Method Replacement Method
Acquisitions: Acquisitions:
• Record initial acquisitions • Record initial acquisitions of
of assets at cost in the assets at cost in the asset
asset account. account.
• Record subsequent • Record subsequent
acquisitions of assets at acquisitions with a debit to
cost in the asset account depreciation expense.
Dispositions: Dispositions:
• Credit the asset account • Credit depreciation expense
for cost. for the proceeds received.
• Debit depreciation expense
for cost less the proceeds
received.
11 - 52
End of Chapter 11